Following the collapse of Silicon Valley Bank (SVB), markets have reacted quickly and strongly. While SVB was a fairly small part of the overall US banking system, the potential ramifications of a banking failure for the wider sector and economy are, quite rightly, front of mind for investors.
The impact to markets
This is technically the second largest US bank failure in history. But for context, many of the institutions that failed in the global financial crisis were not classed as banks (though they would be now) and many banks were bought before an official collapse.
Equity markets, unsurprisingly led by banks, fell on the news. Credit spreads, the measure of compensation needed for a bond investor to take on company risk, widened. And government bonds went up in value, driven by the view that the Fed won’t be able to raise interest rates as much as before.
This comes roughly a year after the Fed first raised interest rates following the Covid led lows. Given the speed at which rates went up and the delayed effect of such a policy, the worry is this might be the start of something worse. Ultimately, only time will tell. The next few months will tell us more, and also provide the Fed with a steer over how aggressively they can fight inflation.
Our outlook hasn't changed
None of this changes our outlook. We see a recession on the horizon, and have positioned accordingly for this. By this I broadly mean with more bonds and less equities. Within our Tactical Active and Passive solution, US equity and the financials heavy UK market are an underweight. Our overweight to Government Bonds will have helped over the last few days.
What about direct exposure?
Direct exposure to SVB is minimal across our solutions. Our passive US funds both had 0.05% exposure. Fidelity US Index also had 0.02% exposure to Signature Bank, which has also collapsed. This is an output of the index make up rather than an active decision to want to hold either.
For our Passive ESG solution, Amundi US and UBS US held roughly 0.2% each. Within our Ethical Active solution, Columbia Threadneedle Responsible Global Equity and Sarasin Responsible Global Equity held 1.5% and 1%, respectively.
Given the small size of these allocations, the loss shouldn’t be overly impactful. We continue to engage with the managers on the rationale for their position.
Looking forward
It remains to be seen whether this is an isolated, idiosyncratic event, or something more systemic. The latter being a bigger risk to portfolios. At this moment, the reasons for the collapse appear to be focused on how SVB operated. Their client base was less diversified than other banks and highly focused on the Venture Capitalist tech marketplace. This is fine when cash is coming in, but less so when going out. The bank was also heavily exposed to interest rate risk – they’d used their deposits to buy large amounts of fixed income securities. Given the speed of rate rises through 2022, they were worth considerably less than when purchased.
These factors are not universal to the wider banking sector, and larger, more systemically impactful banks also have greater levels of regulation to abide by. The Federal Deposit Insurance Corporation (FDIC) quickly stepped in to make sure deposits were protected. This went beyond the normal $250k limit for US banking clients. A lending programme was also put in place, allowing banks to borrow at an attractive rate using the par value of high-quality assets as collateral. This is important as the current value for many fixed income assets is a lot lower than the par value you’d receive at maturity. This becomes a problem if they need to be sold to meet depositor withdrawals.
However, the above has not stopped the market concern around the banking sector more broadly. Shares in regional US banks have remained under pressure, as have larger, established European banks. Credit Suisse is the clearest example here, with shares down circa 25% yesterday before bouncing sharply this morning following confirmation they would take up the offer to borrow up to $54bn from the Swiss Central Bank. This is the first emergency lifeline given to a major global bank since 2008. Credit Suisse has certainly had its fair share of issues, which makes any comparison to the broader market harder.
As with any event like this, we’ll continue to monitor the situation and any potential impact on our portfolios closely. At the moment our positioning feels appropriate, with our view of the economic cycle and year ahead not overly changed. If it does, we’ll act accordingly.
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Parmenion accepts no duty of care or liability for loss arising from any person acting, or refraining from acting, as a result of any information contained within this article. All investment carries risk. The value of investments, and the income from them, can go down as well as up and investors may get back less than they put in. Past performance is not a reliable indicator of future returns.